Published By: Tarrence Sun | 09/11/2024

As we close in on the final quarter of 2024, the U.S. economy is sending mixed signals. While the stock market has posted impressive gains, underlying challenges such as rising consumer debt, slowing job growth, and global headwinds loom large.

Stock Market: Riding High but Facing Headwinds

The S&P 500 continues to perform exceptionally well, with a 2.4% rise in August bringing its year-to-date gain to 19.5%. This marks one of the strongest years for the stock market since the pandemic recovery in 2021. What’s particularly interesting about this year’s performance is the broadening of market participation. Earlier in 2024, the market gains were largely driven by the Magnificent 7, such as Apple, Amazon, Nvidia. These companies capitalized on the AI boom, with Nvidia reporting a stunning 101% surge in quarterly revenue year-over-year​.

However, this trend is shifting. In the last few months, sectors like Healthcare, Utilities, and Consumer Staples have picked up the slack, contributing to broader market gains. For instance, the Healthcare sector has risen 6% since July, driven by increased investor interest in companies with more stable earnings, especially as market volatility becomes a concern. Defensive sectors like these often outperform in uncertain times.

Yet, concerns are growing. Historically, September is a volatile month for the stock market, because of investors increasingly being wary of a correction. Much of the recent gains have been built on speculation surrounding AI and tech. These are sectors that are prone to sharp downturns when sentiment shifts. For these tech giants, valuation metrics such as the price-to-earnings (P/E) ratio remain elevated, raising fears of a bubble. As of September 2024, the P/E ratio for the Magnificent 7 stands around 37 P/E. Apple, arguably the most well-known stable blue chip company, is trading at 34 times earnings P/E (at the time of this publication), well above its historical average​. 

Federal Reserve’s Rate Shift: What It Means for Markets

The Federal Reserve has played a central role in shaping market dynamics in 2024. After embarking on one of the most aggressive rate-hiking campaigns in decades, the Fed is finally shifting course. In its latest meeting, the central bank signaled a pause in rate hikes, with the possibility of rate cuts on the horizon as soon as Q1 2025.

Why the sudden change? Inflation—once running at 9.1% in June 2022—has cooled, falling to 3.2% as of August 2024. This is within striking distance of the Fed’s target of 2%. With inflation no longer posing an immediate threat, the Fed’s focus has shifted to the labor market, where recent data suggests that job growth is slowing. A softer job market, combined with declining inflation, gives the Fed space ease monetary policy.

The impact of these rate cuts on the markets is significant. For equities, lower interest rates typically boost valuations, as the cost of borrowing falls and companies are able to finance growth cheaper. For bonds, lower rates will mean higher prices, as yields fall. Already, we’ve seen a rally in U.S. Treasuries, with the 10-year yield dipping to 3.92%, down from 4.5% in mid-August. This marks the recovery of the Bank of Japan market crash.

However, there’s a flip side. Historically, rapid rate cuts have often preceded economic recessions. The concern is that while inflation is under control, the Fed might be cutting rates too late to prevent an economic slowdown. According to Morgan Stanley, there’s now a 40% chance of a U.S. recession in the next 12 months​.

Labor Market: Job Growth Slows, Debt Levels Rise

The U.S. labor market, once a beacon of strength during the recovery from the pandemic, is now showing signs of wear. Revised data from the Labor Department in August revealed that the U.S. added 818,000 fewer jobs over the last year than previously reported. That’s a significant downward revision, raising concerns about the health of the economy moving forward​.

Wages, which had been growing steadily, are now stagnating, with average hourly earnings increasing by just 0.2% in August, down from 0.4% in July. This slowdown in wage growth could have a ripple effect on consumer spending, which makes up roughly 70% of U.S. GDP (Growth Domestic Product).

Consumers are also grappling with rising debt. Credit card debt in the U.S. surpassed $1 trillion for the first time ever in August, as rising costs of living force many households to borrow just to make ends meet. The average interest rate on credit cards has climbed to a record-high 24.08%, making it harder for consumers to pay down balances. This could be partially blamed on past inflation, causing the average paycheck-to-paycheck American to struggle for basic needs.

There’s a growing divergence between high-income households, who have benefitted from rising stock prices, and lower-income households, many of which are struggling with rising debt and stagnant wages. This divide is evident in consumer sentiment surveys, which show that while high-income earners are optimistic about the future, confidence among lower-income Americans has plunged​.

Bond Market: A Comeback Amid Falling Yields

While the stock market has garnered most of the attention this year, the bond market is experiencing its own resurgence. The decline in inflation and the Fed’s signaling of future rate cuts have driven up demand for bonds, pushing yields down. The yield on the 10-year U.S. Treasury has fallen to 3.92%, down from 4.5% in just a few weeks.

For investors, this creates an attractive opportunity. Bonds had a rough year in 2023 as interest rates rose, but with rates now expected to fall, bond prices are rising. For those seeking safer investments amid equity market volatility, U.S. Treasuries and corporate bonds are starting to look more appealing​.

However, there’s a potential risk here. If the Fed cuts rates too aggressively and economic growth slows significantly, high-yield bonds (those issued by companies with lower credit ratings) could see their prices drop sharply. Investors are keeping a close eye on credit spreads—the difference in yield between Treasuries and corporate bonds. If these spreads widen, it could signal growing concern about the risk of corporate defaults.

Global Economic Challenges: China and Europe in Focus

While the U.S. economy has shown resilience, global economic conditions are casting a shadow over growth prospects. China, once the engine of global economic growth, is struggling with a deepening crisis in its real estate sector. The country’s largest property developer, Evergrande, recently filed for bankruptcy protection, sending shockwaves through the global financial system.

China’s economic troubles are not just limited to real estate. The country’s GDP growth has slowed to 3.2% in 2024, well below the 6-7% growth rates it enjoyed just a few years ago. This slowdown has significant implications for global demand, particularly for commodities like oil and metals, which have seen prices fall in response​.

In Europe, the situation isn’t much better. The continent continues to grapple with high energy prices, driven by geopolitical tensions and supply disruptions. Countries like Germany and France are bracing for another difficult winter, with energy costs expected to remain elevated. This has weighed heavily on Europe’s manufacturing sector, which has contracted for five consecutive months​.

Sector Breakdown: Winners and Losers

Amid the broader economic trends, certain sectors of the U.S. economy are standing out. The Technology sector, driven by the AI boom, remains one of the top performers. Companies like Nvidia and Microsoft have seen their stock prices soar as investors bet on the transformative potential of AI. However, as previously mentioned, there are growing concerns about valuation bubbles, particularly as P/E ratios for tech giants remain high.

On the flip side, Retail and Consumer Discretionary sectors are underperforming, largely due to rising consumer debt and stagnating wage growth. Major retailers like Target and Walmart have issued warnings about slowing consumer demand, particularly for discretionary items like electronics and apparel

Conclusion: What to Watch For in the Coming Months

As we head into the final quarter of 2024, the U.S. economy is at a critical juncture. The stock market has posted impressive gains, but underlying challenges such as rising consumer debt, slowing job growth, and global economic headwinds could create volatility in the months ahead. Investors and businesses alike will need to remain nimble, focusing on diversification and preparing for potential market corrections.

Key data points to watch include upcoming job reports, inflation data, and the Federal Reserve’s next moves on interest rates. For now, a cautiously optimistic approach seems warranted, with a focus on defensive sectors and bonds, as the economic landscape continues to evolve.